UNITED STATES
SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549
FORM 10-QSB
[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE EXCHANGE ACT
For the transition period from ____ to ____
Commission file number 0-30152
Payment Data Systems, Inc.
(Exact name of small business issuer as specified in its charter)
Nevada 98-0190072
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
12500 San Pedro, Suite 120
San Antonio, TX 78216
(Address of principal executive offices)
(210) 249-4100
(Issuer's telephone number)
Check whether the issuer (1) filed all reports required to be filed by section
13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter
period that the registrant was required to file such reports), and (2) has been
subject to such filing requirement for the past 90 days. Yes X No ___
As of August 1, 2004, 21,604,091 shares of the issuer's common stock, $0.001 par
value, were outstanding.
Transitional Small Business Disclosure Format (Check one): Yes ___ No X
PAYMENT DATA SYSTEMS , INC.
INDEX
PART I - FINANCIAL INFORMATION
Page
Item 1. Financial Statements (Unaudited)
Consolidated Balance Sheets as of June 30, 2004 and
December 31, 2003 3
Consolidated Statements of Operations for the three
and six months ended June 30, 2004 and 2003 4
Consolidated Statements of Cash Flows for the six months
ended June 30, 2004 and 2003 5
Notes to Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 10
Item 3. Controls and Procedures 15
PART II - OTHER INFORMATION
Item 2. Changes in Securities 16
Item 4. Submission of Matters to a Vote of Security Holders 16
Item 6. Exhibits and Reports on Form 8-K 16
Signature 19
2
PART I - FINANCIAL INFORMATION
PAYMENT DATA SYSTEMS , INC.
CONSOLIDATED BALANCE SHEETS
June 30, 2004 December 31, 2003
--------------- ------------------
(Unaudited)
Assets:
Current assets:
Cash and cash equivalents $82,412 $528,119
Accounts receivable, net 26,666 43,693
Prepaid expenses and other 59,278 113,650
--------------- ----------------
Total current assets 168,356 685,462
Property and equipment, net 170,700 215,156
Other assets 30,282 37,782
--------------- ----------------
Total assets $369,338 $938,400
=============== ================
Liabilities and stockholders' equity (deficit):
Current liabilities:
Accounts payable $528,793 $501,488
Accrued expenses 242,608 224,180
--------------- ----------------
Total current liabilities 771,401 725,668
Stockholders' equity (deficit):
Common stock, $0.001 par value, 200,000,000 shares authorized;
21,495,181 and 20,987,956 issued and
outstanding 21,495 20,988
Additional paid -in capital 46,931,271 46,842,908
Accumulated deficit (47,354,829) (46,651,164)
--------------- ----------------
Total stockholders' equity (deficit) (402,063) 212,732
--------------- ----------------
Total liabilities and stockholders' equity (deficit) $369,338 $938,400
=============== ================
See notes to interim consolidated financial statements.
PAYMENT DATA SYSTEMS , INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
Three Months Ended June 30, Six Months Ended June 30,
-------------------------- -------------------------
2004 2003 2004 2003
---------- ----------- ----------- ---------
Revenues $64,202 $28,915 $119,399 $53,071
Operating expenses:
Cost of services 65,719 19,734 129,359 37,264
Selling, general and administrative 272,884 436,658 632,703 825,251
Depreciation and amortization 25,353 32,561 53,035 68,634
---------- ----------- ----------- ---------
Total operating expenses 363,956 488,953 815,097 931,149
---------- ----------- ----------- ---------
Operating loss (299,754) (460,038) (695,698) (878,078)
Other income (expense), net:
Interest income 245 26 643 4,194
Interest expense - (16,387) - (60,780)
Other income (expense) (3,440) (13,117) (8,610) (19,157)
---------- ----------- ----------- ---------
Total other income (expense), net (3,195) (29,478) (7,967) (75,743)
---------- ---------- ---------- ----------
Loss from continuing operations before
income taxes (302,949) (489,516) (703,665) (953,821)
Income taxes - - - -
---------- ----------- ----------- ---------
Loss from continuing operations (302,949) (489,516) (703,665) (953,821)
Discontinued operations:
Income (loss) from discontinued
operations, net of no income taxes - (423,446) - (761,099)
---------- ----------- ----------- ---------
Net income (loss) $(302,949) $(912,962) $(703,665) $(1,714,920)
========== =========== =========== =========
Basic and diluted loss per common share:
Loss from continuing operations $ (0.01) $(0.02) $(0.03) $(0.04)
Income (loss) from discontinued
operations, $ - $(0.02) $ - $(0.04)
---------- ----------- ----------- ---------
Net income (loss) $ (0.01) $(0.04) $(0.03) $(0.08)
========== =========== =========== =========
Weighted average common shares
outstanding 21,491,884 20,722,656 21,340,681 20,704,523
See notes to interim consolidated financial statements.
PAYMENT DATA SYSTEMS , INC. CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
Six Months Ended June 30,
-----------------------------------
2004 2003
--------------- --------------
Operating activities:
Loss from continuing operations $(703,665) $(953,821)
Adjustments to reconcile loss from continuing
operations to net cash used in operating activities:
Depreciation and amortization 53,035 68,634
Non-cash issuance of common stock 69,200 16,250
Changes in current assets and current liabilities:
Accounts receivable 17,027 28,130
Prepaid expenses and other 54,372 133,645
Accounts payable and accrued expenses 62,058 673,853
Deferred revenue - (161,734)
----------- ----------
Net cash used in continuing operations (447,973) (195,043)
Net cash used in discontinued operations - (10,490)
----------- ----------
Net cash used in operating activities (447,973) (205,533)
Investing activities:
Purchases of property and equipment (1,079) (14,891)
----------- ----------
Net cash used in investing activities (1,079) (14,891)
Financing activities:
Cash pledged as collateral for related party obligations - 1,311,984
Payments for related party obligations - (1,278,138)
Principal payments for capital lease obligations - (3,897)
Issuance of common stock, net of issuance costs 3,345 6,710
----------- ----------
Net cash provided by financing activities 3,345 36,659
----------- ----------
Change in cash and cash equivalents (445,707) (183,765)
Cash and cash equivalents, beginning of period 528,119 286,105
----------- ----------
Cash and cash equivalents, end of period $82,412 $102,340
=========== ==========
See notes to interim consolidated financial statements.
PAYMENT DATA SYSTEMS , INC.
NOTES TO INTERIM CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
Note 1. Basis of Presentation
Payment Data Systems, Inc. and subsidiaries (the "Company"), has incurred
substantial losses since inception, which has led to a significant decrease in
its cash position and a deficit in working capital. The Company sold
substantially all of its assets in July 2003 (see Note 3) and reduced
expenditures for operating requirements. Despite these actions, the Company
believes that its current available cash along with anticipated revenues may be
insufficient to meet its anticipated cash needs for the foreseeable future.
Consequently, the Company's ability to continue as a going concern is likely
contingent on the Company receiving additional funds in the form of equity or
debt financing. Accordingly, the Company is currently aggressively pursuing
strategic alternatives, including investment in the Company via an equity line
of credit (see Note 5). The sale of additional equity or convertible debt
securities would result in additional dilution to the Company's stockholders,
and debt financing, if available, may involve covenants which could restrict
operations or finances. There can be no assurance that financing will be
available in amounts or on terms acceptable to the Company, if at all. If the
Company cannot raise funds, on acceptable terms, or achieve positive cash flow,
it may not be able to continue to exist, conduct operations, grow market share,
take advantage of future opportunities or respond to competitive pressures or
unanticipated requirements, any of which would negatively impact its business,
operating results and financial condition. The accompanying unaudited
consolidated financial statements of the Company do not include any adjustments
to reflect the possible future effects on the recoverability and classification
of assets or the amounts and classification of liabilities that may result from
the outcome of this uncertainty.
The accompanying unaudited consolidated financial statements of the Company have
been prepared without audit, pursuant to the rules and regulations of the
Securities and Exchange Commission. Certain information and footnote disclosures
normally included in financial statements prepared in accordance with U.S.
generally accepted accounting principles have been condensed or omitted pursuant
to such rules and regulations. In the opinion of management, the accompanying
consolidated financial statements reflect all adjustments of a normal recurring
nature considered necessary to present fairly the Company's financial position,
results of operations and cash flows for such periods. The accompanying interim
consolidated financial statements should be read in conjunction with the
consolidated financial statements and the notes thereto included in the
Company's Annual Report on Form 10-K for the year ended December 31, 2003.
Results of operations for interim periods are not necessarily indicative of
results that may be expected for any other interim periods or the full fiscal
year. Certain prior period amounts have been reclassified to conform to the
current year presentation.
The preparation of financial statements in conformity with U.S. generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
Note 2. Stock -Based Compensation
The Company applies the intrinsic value method under the recognition and
measurement provisions of APB No. 25, "Accounting for Stock Issued to
Employees," in accounting for its stock option and stock purchase plans.
Accordingly, no stock-based employee compensation expense has been recognized
for options granted with an exercise price equal to the market value of the
underlying common stock on the date of grant or in connection with the employee
stock purchase plan. The following table illustrates the effect on net income
and earnings per share if the Company had applied the fair value recognition
provisions of Statement of Financial Accounting Standards No. 123, "Accounting
for Stock-Based Compensation," to stock-based employee compensation.
Three Months Ended June 30, Six Months Ended June 30,
-------------------------- -------------------------
2004 2003 2004 2003
------------ ----------- ----------- -----------
Net loss, as reported $(302,949) $(912,962) $(703,665) $(1,714,920)
Less: Total stock-based employee
compensation expense determined
under fair value based method for
all awards, net of related tax effects (67,755) (175,356) (135,510) (366,330)
--------- ---------- ----------- ------------
Pro forma net loss (370,704) (1,088,318) (839,175) (2,081,250)
========= ========== =========== ============
Net loss per common share
- basic and diluted, as reported $ (0.01) $ (0.04) $ (0.03) $ (0.08)
Net loss per common share
- basic and diluted, pro forma $ (0.02) $ (0.05) $ (0.04) $ (0.10)
Note 3. Discontinued Operations
Prior to selling substantially all of its assets in July 2003, the Company
provided electronic bill presentment and payment ("EBPP") services to companies
generating recurring bills and also provided related EBPP consulting and
Internet-based customer care interaction services. In accordance with Statement
of Financial Accounting Standards No. 144, "Accounting for the Impairment or
Disposal of Long-Lived Assets," the results of operations for the asset group
disposed of have been classified as discontinued operations. All financial
information presented for the three and six months ended June 30, 2003 has been
restated to reflect the operating results of this asset group as discontinued
operations.
Note 4. Related Party Transactions
Beginning in December 2000, the Company pledged as loan guarantees certain funds
held as money market funds and certificates of deposit to collateralize margin
loans for the following executive officers of the Company: (1) Michael R. Long,
then Chairman of the Board of Directors and Chief Executive Officer; (2) Louis
A. Hoch, then President and Chief Operating Officer; (3) Marshall N. Millard,
then Secretary, Senior Vice President, and General Counsel; and (4) David S.
Jones, then Executive Vice President. Mr. Millard and Mr. Jones no longer are
employees of the Company. The margin loans were obtained in March 1999 from
institutional lenders and were secured by shares of the Company's common stock
owned by these officers. The pledged funds were held in the Company's name in
accounts with the lenders that held the margin loans of the officers. The
Company's purpose in collateralizing the margin loans was to prevent the sale of
its common stock owned by these officers while it was pursuing efforts to raise
additional capital through private equity placements. The sale of that common
stock could have hindered the Company's ability to raise capital in such a
manner and compromised its continuing efforts to secure additional financing.
The highest total amount of funds pledged for the margin loans guaranteed by
the Company was approximately $2.0 million. The total balance of the margin
loans guaranteed by the Company was approximately $1.3 million at December 31,
2002. At the time the funds were pledged, the Company believed they would have
access to them because (a) their stock price was substantial and the stock
pledged by the officers, if liquidated, would produce funds in excess of the
loans payable, and (b) with respect to one of the institutional lenders (who was
also assisting the Company as a financial advisor at the time), even if the
stock price fell, they had received assurances from that institutional lender
that the pledged funds would be made available as needed. During the fourth
quarter of 2002, the Company requested partial release of the funds for
operating purposes, which request was denied by an institutional lender. At that
time, their stock price had fallen as well, and it became clear that both
institutional lenders would not release the pledged funds. In light of these
circumstances, the Company recognized a loss on the guarantees of $1,278,138 in
the fourth quarter of 2002 and recorded a corresponding payable under related
party guarantees on their balance sheet at December 31, 2002 because it became
probable at that point that they would be unable to recover their pledged funds.
During the quarter ended March 31, 2003, the lenders applied the pledged funds
to satisfy the
7
outstanding balances of the loans. The total balance of the margin loans
guaranteed by the Company was zero at June 30, 2004. The Company may
institute litigation or arbitration in collection of the outstanding repayment
obligations of Mr. Long, Mr. Hoch, Mr. Millard, and Mr. Jones, which currently
total $1,278,138. Presently, the Company has refrained from initiating action to
recover these funds from Mr. Long, Mr. Hoch, and Mr. Millard because they may
have offsetting claims that total $1,445,500 collectively by virtue of the
change of control clause in their respective employment agreements based on our
preliminary analysis. The Company understands that these individuals may assert
such claims based on the Company's sale of substantially all of its assets to
Harbor Payments, Inc. on July 25, 2003. The Company has not initiated any formal
settlement negotiations with these individuals because they have been under an
extended employment contract with us or have not been amenable to such an
action. The Company has not pursued the outstanding repayment obligation of Mr.
Jones because the Company does not consider a recovery attempt to be cost
beneficial. In order to attempt a recovery from Mr. Jones, the Company estimates
that it would incur a minimum of $20,000 in estimated legal costs with no
reasonable assurance of success in recovering his outstanding obligation of
approximately $38,000. Because of the limited amount of the obligation, the
Company also anticipates difficulty in retaining counsel on a contingency basis
to pursue collection of this obligation. The ultimate outcome of this matter
cannot presently be determined.
Note 5. Equity Line of Credit
In February 2004, the Company executed an agreement for an equity line of credit
with Dutchess Private Equities Fund, LP ("Dutchess"). Under the terms of the
agreement, the Company may elect to receive as much as $10 million from Dutchess
in common stock purchases over the next three years at the option of the
Company. The Company agreed to file with the Securities and Exchange
Commission, and have declared effective before any funds may be received under
the agreement, a registration statement registering the resale of the shares of
the Company's common stock to be issued to Dutchess. The Company filed a
registration statement on Form SB-2 with the Securities and Exchange Commission
on June 18, 2004 to register the resale of these shares (see Note 7).
Note 6. Issuance of Capital Stock
In February 2004, the Company issued 55,000 shares of common stock under the
terms of its Comprehensive Employee Stock Plan to a former employee for services
provided while employed by the Company in 2003. During the six months ended June
30, 2004, the Company also issued a total of 365,000 shares of common stock
under the terms of its Comprehensive Employee Stock Plan to independent
contractors providing consulting services to the Company and recorded
approximately $70,000 of related expense.
In March 2004, the Company issued 15,000 shares of common stock and received
cash proceeds of approximately $3,000 related to the exercise of stock options
granted under the terms of its Comprehensive Employee Stock Plan.
During the six months ended June 30, 2004, the Company issued a total of 72,225
shares of common stock to certain independent contractors performing services
for the Company. Such shares were issued pursuant to Section 506 of Regulation D
of the Securities and Exchange Act of 1933, as amended, as no general
solicitation was undertaken. The Company recorded approximately $11,000 of
expense related to the issuance of this stock. The average closing price was
used to value the stock given as consideration because the related independent
contractor agreements called for the contractors to earn a certain number of
shares of common stock for each month (prorated for any partial month) spent
working on behalf of the Company with no specified term. In effect, the
contractors earned the same fixed number of shares for each day that they worked
for the Company so the performance commitment was met by the contractors on a
daily basis and valued as such in accordance with the measurement date guidance
provided by EITF 96-18.
8
Note 7. Subsequent Events
On July 25, 2004, the Company's employment agreements with Michael Long, Chief
Executive Officer and Chief Financial Officer, and Louis Hoch, President and
Chief Operating Officer, expired. The Company intends to enter into new
employment agreements with both of these individuals and is currently
negotiating the terms of such agreements.
On August 11, 2004, the Company filed an amended registration statement on
Form SB-2 with the Securities and Exchange Commission to register the resale of
the shares to be issued under the equity line of credit with Dutchess Private
Equities Fund, LP. The Securities and Exchange Commission declared this amended
registration statement to be effective on August 13, 2004.
9
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following discussion and analysis of financial condition and results of
operations contains forward -looking statements that involve a number of risks
and uncertainties. Actual results in future periods may differ materially from
those expressed or implied in such forward -looking statements. This discussion
and analysis should be read in conjunction with the unaudited interim
consolidated financial statements and the notes thereto included in this report,
and the Company's Annual Report on Form 10-K for the year ended December 31,
2003. All references to "we," "us" or "our" in this Form 10-QSB mean Payment
Data Systems, Inc. and its consolidated subsidiaries (the "Company").
Overview
We provide integrated electronic payment processing services to merchants and
businesses, including all types of Automated Clearinghouse, or ACH, network pro-
cessing and credit and debit card -based processing services. We also operate an
online payment processing service for consumers under the domain name
www.bills.com through which consumers can pay anyone. Since inception, we have
incurred operating losses each quarter, and as of June 30, 2004, we have an
accumulated deficit of $47.4 million. Our prospects to continue as a going
concern must be considered in light of the risks, expenses and difficulties
frequently encountered by companies in their early stages of growth,
particularly companies in new and rapidly evolving markets such as electronic
commerce. Such risks include, but are not limited to, an evolving and
unpredictable business model and our ability to continue as a going concern. To
address these risks, we must, among other things, grow and maintain our customer
base, implement a successful marketing strategy, continue to maintain and
upgrade our technology and transaction-processing systems, provide superior
customer service, respond to competitive developments, attract, retain and
motivate qualified personnel, and respond to unforeseen industry developments
and other factors. We cannot assure you that we will be successful in addressing
such risks, and the failure to do so could have a material adverse effect on our
business, prospects, financial condition and results of operations.
We believe that our success will depend in large part on our ability to (a)
manage our operating expenses, (b) add quality customers to our client base, (c)
meet evolving customer requirements and (d) adapt to technological changes in an
emerging market. Accordingly, we intend to focus on customer acquisition
activities and outsource some of our processing services to third parties to
allow us to maintain an efficient operating infrastructure and expand our
operations without significantly increasing our fixed operating expenses.
Prior to July 25, 2003, we provided electronic bill presentment and payment,
or EBPP, and related services to companies that generate recurring bills to
their consumers. On July 25, 2003, we sold substantially all of the assets that
we used in providing these EBPP services. After we sold these assets, we no
longer provided EBPP services. Accordingly, we have reported the results of
operations for the asset group disposed of as discontinued operations in the
accompanying statements of operations.
Critical Accounting Policies
General
Management's discussion and analysis of our financial condition and results of
operations is based upon our consolidated financial statements, which have been
prepared in accordance with U.S. generally accepted accounting principles. The
preparation of these financial statements requires us to make estimates and
judgments that affect the reported amounts of assets, liabilities, revenue and
expenses, and related disclosure of contingent assets and liabilities. On an
on-going basis, we evaluate our estimates, including those related to the
reported amounts of revenues and expenses, bad debt, investments, intangible
assets, income taxes, and contingencies and litigation. We base our estimates on
historical experience and on various other assumptions that are believed to be
reasonable under the circumstances, the results of which form the basis for
making judgments about the carrying values of assets and liabilities that are
not readily apparent from other sources. Actual results could differ from these
estimates under different assumptions or conditions. We consider the following
accounting policies to be critical because the
10
nature of the estimates or assumptions is material due to the levels of
subjectivity and judgment necessary to account for highly uncertain matters or
the susceptibility of such matters to change or because the impact of the
estimates and assumptions on financial condition or operating performance is
material.
Reserve for Losses on Card Processing
If, due to insolvency or bankruptcy of the merchant, or for another reason, we
are not able to collect amounts from our card processing merchant customers that
have been properly "charged back" by the cardholders, we must bear the credit
risk for the full amount of the cardholder transaction. We may require cash
deposits and other types of collateral from certain merchants to minimize any
such risk. In addition, we utilize a number of systems and procedures to manage
merchant risk. Card merchant processing loss reserves are primarily determined
by performing a historical analysis of our chargeback loss experience and
considering other factors that could affect that experience in the future, such
as the types of card transactions processed and nature of the merchant
relationship with their consumers. This reserve amount is subject to risk that
actual losses may be greater than our estimates. At June 30, 2004, we did not
have a significant card merchant processing loss reserve due to the limited
volume of transactions that we processed since the inception of our card
processing services during the fourth quarter of 2003. We have not incurred any
chargeback losses to date. Our estimate for chargeback losses is likely to
increase in the future as our volume of card -based transactions processed
increases.
Bad Debt
We maintain an allowance for doubtful accounts for estimated losses resulting
from the inability or failure of our customers to make required payments. We
determine the allowance for doubtful accounts based on an account-by- account
review, taking into consideration such factors as the age of the outstanding
balance, historical pattern of collections and financial condition of the
customer. Past losses incurred by us due to bad debt have been within our
expectations. The Company recorded bad debt expense of $10,700 and recorded bad
debt write-offs of $54,742 to its allowance for doubtful accounts in 2003. At
June 30, 2004, the balance of the allowance for doubtful accounts was
$3,155. If the financial condition of our customers were to deteriorate,
resulting in an impairment of their ability to make contractual payments,
additional allowances may be required. Our estimate for bad debt losses is
likely to increase in the future as our volume of transactions processed
increases.
Valuation of Long-Lived and Intangible Assets
The Company assesses the impairment of long-lived and intangible assets at least
annually, and whenever events or changes in circumstances indicate that the
carrying value may not be recoverable. Factors considered important, which could
trigger an impairment review, include the following: significant
underperformance relative to historical or projected future cash flows;
significant changes in the manner of use of the assets or the strategy of the
overall business; and significant negative industry trends. When management
determines that the carrying value of long- lived and intangible assets may not
be recoverable, impairment is measured as the excess of the assets' carrying
value over the estimated fair value. During the second quarter of 2003, the
Company performed an impairment review because the Company expected to sell the
asset group used to provide electronic bill payment and presentment services.
The Company determined that the asset group to be sold was impaired and recorded
a non-cash charge of $200,000, which is included as a component of discontinued
operations in the accompanying consolidated statement of operations. Fair value
was based on the expected selling price of the asset group.
Income Taxes
Deferred tax assets and liabilities are recorded based on the difference between
the tax bases of assets and liabilities and their carrying amount for financial
reporting purposes, as measured by the enacted tax rates and laws that will be
in effect when the differences are expected to reverse. Deferred tax assets are
computed with the presumption that they will be realizable in future periods
when pre -taxable income is generated. Predicting the ability to realize these
assets in future periods requires a great deal of judgment by management. It is
our judgment that we cannot predict with reasonable certainty that the
deferred tax assets as of June 30, 2004 will be realized in future periods.
Accordingly, a valuation allowance has been provided to reduce the net deferred
tax assets to $0. At December 31,
11
2003, the Company had available net operating loss carryforwards of
approximately $34.6 million, which expire beginning in the year 2020.
Results of Continuing Operations
Our revenues are principally derived from the operation of an Internet
electronic payment processing service for consumers under the domain name
www.bills.com. We also provide integrated electronic payment services to
merchants and businesses, including credit and debit card -based processing
services and transaction processing via the ACH network. Revenues for the
quarter ended June 30, 2004 increased 122% to $64,202 from $28,915 for the
quarter ended June 30, 2003. Revenues for the six months ended June 30, 2004
increased 125% to $119,399 from $53,071 for the six months ended June 30, 2003.
The increases from the prior year periods was primarily attributable to the
addition of revenues generated from card -based and ACH processing services that
we began providing during 2003. We processed our first ACH transactions during
the third quarter of 2003 and processed our first card -based transactions
during the fourth quarter of 2003. The increase in revenue was also due to an
increase in the number of consumers subscribing to the bills.com payment
service. The monthly average number of consumers using our online payment
service was as follows:
Three Months Ended June 30, Six Months Ended June 30,
---------------------------- --------------------------------
2004 2003 2004 2003
------- ----- ------- -------
Average number of bills.com
customers per month 1,986 1,918 2,039 1,873
The number of transactions generated by bills.com customers is not indicative of
revenue growth because the majority of these customers pay a flat monthly fee to
process up to a certain number of payments each month and do not exceed the
maximum number of payments allowed. We expect our revenues to increase as we
anticipate continued growth in the number of bills.com customers and additional
merchant customers. Revenue generated by our merchant customers represented
approximately 38% of our total revenues in the six months ended June 30, 2004,
but we believe that this percentage will increase as we anticipate adding new
merchant customers and experiencing growth in transaction volumes as a result.
We believe that our merchant business provides us with the best opportunity for
revenue growth and will comprise the majority of our business in the future.
Cost of services includes the cost of personnel dedicated to the creation and
maintenance of connections to third party payment processors and fees paid to
such third party providers for electronic payment processing services. Through
our contractual relationships with our payment processors, we are able to
process ACH and debit or credit card transactions on behalf of our customers and
their consumers. We pay volume -based fees for debit and credit transactions
initiated through these processors, and pay fees for other transactions such as
returns, notices of change to bank accounts and file transmission. Cost of
services was $65,719 and $19,734 for the quarters ended June 30, 2004 and 2003,
respectively, and $129,359 and $37,264 for the six months ended June 30, 2004
and 2003, respectively. The increase from the prior year periods is due to fees
incurred in 2004 for ACH and card -based processing services and the higher
subscriber volume of the bills.com payment service.
Selling, general and administrative expenses decreased to $272,884 for the
quarter ended June 30, 2004, from $436,658 for the second quarter of 2003. Such
expenses decreased to $632,703 for the six months ended June 30, 2004, from
$825,251 for the six months ended June 30, 2003. The decreases from the prior
year periods are principally due to lower accounting, legal and corporate
insurance expenses and lower salary and benefit costs due to the reduction of
personnel during 2003.
Depreciation and amortization decreased to $25,353 for the quarter ended June
30, 2004, as compared to $32,561 for the second quarter of 2003. Depreciation
and amortization decreased to $53,035 for the six months ended June 30,
2004, from $68,634 for the six months ended June 30, 2003. These decreases were
due to lower depreciation related to certain assets that became fully
depreciated during 2003. We purchased $1,079 of computer software during the six
months ended June 30, 2004 and do not anticipate making any significant capital
expenditures over the remaining six months of 2004.
12
Net other expense was $3,195 for the quarter ended June 30, 2004, compared to
$29,478 for the second quarter of 2003. Net other expense of $7,967 for the six
months ended June 30, 2004, decreased from $75,743 for the first six months of
2003. These decreases are primarily attributable to lower interest expense in
2004 due to the repayment of our convertible debt in July 2003 and absence of
any debt in 2004.
Net loss from continuing operations improved to $302,949 for the quarter ended
June 30, 2004, from $489,516 for the second quarter of 2003 primarily as a
result of the decrease in selling, general and administrative expenses from the
prior year quarter. Net loss from continuing operations improved to $703,665 for
the six months ended June 30, 2004, from $953,821 for the six months ended June
30, 2003 primarily as a result of the decrease in selling, general and
administrative expenses and interest expense from the prior year period.
Results of Discontinued Operations
Prior to selling substantially all of our assets in July 2003, our revenues were
principally derived from providing electronic bill presentment and payment and
related services to companies generating recurring bills. During the three
months ended June 30, 2003, these discontinued operations provided revenue of
$918,491 and generated a net loss of $423,446. During the six months ended June
30, 2003, these discontinued operations provided revenue of $1,798,074 and
generated a net loss of $761,099.
Liquidity and Capital Resources
At June 30, 2004, our principal source of liquidity consisted of $82,412 of cash
and cash equivalents, compared to $528,119 of cash and cash equivalents at
December 31, 2003. We have incurred substantial losses since inception, which
has led to a significant decrease in our cash position and a deficit in working
capital. We sold substantially all of our assets in July 2003 and reduced
expenditures for operating requirements. Despite these actions, we believe that
our current available cash and cash equivalents along with anticipated revenues
may be insufficient to meet our anticipated cash needs for the foreseeable
future. Consequently, our ability to continue as a going concern may be
contingent on us receiving additional funds in the form of equity or debt
financing. We are currently aggressively pursuing strategic alternatives,
including investment in us via an equity line of credit. In February 2004, we
executed an agreement for an equity line of credit with Dutchess Private
Equities Fund, LP ("Dutchess"). Under the terms of the agreement, we may elect
to receive as much as $10 million from Dutchess in common stock purchases over
the next three years at our option. We agreed to file with the Securities and
Exchange Commission, and have declared effective before any funds may be
received under the agreement, a registration statement registering the resale of
the shares of our common stock to be issued to Dutchess. Any funds received will
be used, as needed, to support on- going operations and enhance potential merger
and acquisition activity. We filed a registration statement on Form SB-2 with
the Securities and Exchange Commission on June 18, 2004 to register the resale
of these shares. The Securities and Exchange Commission declared this
registration statement to be effective on August 13, 2004. We anticipate that
the equity line of credit will provide sufficient cash flows to meet current
operating requirements and that we will be able to receive funds under the
equity line of credit before our currently available sources of liquidity are
extinguished. If we are unable to receive funds from the equity line of credit
as soon as we currently anticipate for any reason, we may have to curtail or
cease operations.
Beginning in December 2000, we pledged as loan guarantees certain funds held as
money market funds and certificates of deposit to collateralize margin loans for
the following executive officers of the Company: (1) Michael R. Long, then
Chairman of the Board of Directors and Chief Executive Officer; (2) Louis A.
Hoch, then President and Chief Operating Officer; (3) Marshall N. Millard, then
Secretary, Senior Vice President, and General Counsel; and (4) David S. Jones,
then Executive Vice President. Mr. Millard and Mr. Jones no longer are employees
of the Company. The margin loans were obtained in March 1999 from institutional
lenders and were secured by shares of our common stock owned by these officers.
The pledged funds were held in our name in accounts with the lenders that held
the margin loans of the officers. Our purpose in collateralizing the margin
loans was to prevent the sale of our common stock owned by these officers while
we were pursuing efforts to raise additional capital through private equity
placements. The sale of that common stock could have hindered our ability to
raise capital in such a manner and compromised our continuing efforts to secure
additional financing. The highest total amount of funds pledged for the margin
loans guaranteed by us was approximately $2.0 million. The total balance of the
margin loans guaranteed by
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us was approximately $1.3 million at December 31, 2002. At the time the funds
were pledged, we believed we would have access to them because (a) our stock
price was substantial and the stock pledged by the officers, if liquidated,
would produce funds in excess of the loans payable, and (b) with respect to one
of the institutional lenders (who was also assisting us as a financial advisor
at the time), even if the stock price fell, we had received assurances from that
institutional lender that the pledged funds would be made available as needed.
During the fourth quarter of 2002, we requested partial release of the funds for
operating purposes, which request was denied by an institutional lender. At that
time, our stock price had fallen as well, and it became clear that both
institutional lenders would not release the pledged funds. In light of these
circumstances, we recognized a loss on the guarantees of $1,278,138 in the
fourth quarter of 2002 and recorded a corresponding payable under related party
guarantees on our balance sheet at December 31, 2002 because it became probable
at that point that we would be unable to recover our pledged funds. During the
quarter ended March 31, 2003, the lenders applied the pledged funds to satisfy
the outstanding balances of the loans. The total balance of the margin loans
guaranteed by us was zero at June 30, 2004. We may institute litigation or
arbitration in collection of the outstanding repayment obligations of Mr. Long,
Mr. Hoch, Mr. Millard, and Mr. Jones, which currently total $1,278,138.
Presently, we have refrained from initiating action to recover these funds from
Mr. Long, Mr. Hoch, and Mr. Millard because they may have offsetting claims that
total $1,445,500 collectively by virtue of the change of control clause in their
respective employment agreements based on our preliminary analysis. We
understand that these individuals may assert such claims based on our sale of
substantially all of our assets to Harbor Payments, Inc. on July 25, 2003. We
have not initiated any formal settlement negotiations with these individuals
because they have been under an extended employment contract with us or have not
been amenable to such an action. We have not pursued the outstanding repayment
obligation of Mr. Jones because we do not consider a recovery attempt to be
cost beneficial. In order to attempt a recovery from Mr. Jones, we estimate that
we would incur a minimum of $20,000 in estimated legal costs with no reasonable
assurance of success in recovering his outstanding obligation of approximately
$38,000. Because of the limited amount of the obligation, we also anticipate
difficulty in retaining counsel on a contingency basis to pursue collection of
this obligation. The ultimate outcome of this matter cannot presently be
determined.
Net cash used in operating activities was $447,973 and $205,533 for the six
months ended June 30, 2004 and 2003, respectively. Net cash used in operating
activities was primarily attributable to operating net losses generated by early
growth stage activities and overhead costs. We plan to focus on expending our
resources prudently given our current state of liquidity and do not expect to
achieve positive cash flow from operations for 2004.
Net cash used in investing activities was $1,079 and $14,891 for the six months
ended June 30, 2004 and 2003, respectively, and reflected capital expenditures
for computer software. We do not anticipate making any significant capital
expenditures during the remaining six months of 2004.
Net cash provided by financing activities of $3,345 for the six months ended
June 30, 2004 resulted from the exercise of stock options. Net cash provided by
financing activities was $36,659 for the six months ended June 30, 2003 and
included a net return of $34,000 pledged under the Company's guarantees of
related party obligations.
Off-balance Sheet Arrangements
We currently have no off-balance sheet arrangements that have or are reasonably
likely to have a current or future material effect on our financial condition,
changes in financial condition, revenues or expenses, results of operations,
liquidity, capital expenditures or capital resources.
14
FORWARD-LOOKING STATEMENTS DISCLAIMER
Except for the historical information contained herein, the matters discussed in
our Form 10-QSB include certain forward -looking statements, which are intended
to be covered by safe harbors. Those statements include, but may not be limited
to, all statements regarding our and management's intent, belief and
expectations, such as statements concerning our future and our operating and
growth strategy. Investors are cautioned that all forward -looking statements
involve risks and uncertainties including, without limitation, the factors set
forth under the Risk Factors section of Item 7, Management's Discussion and
Analysis of Financial Condition and Results of Operations, of the Annual Report
on Form 10-K for the year ended December 31, 2003 and other factors detailed
from time to time in our filings with the Securities and Exchange Commission.
One or more of these factors have affected, and in the future could affect, our
businesses and financial results in the future and could cause actual results to
differ materially from plans and projections. We believe that the assumptions
underlying the forward-looking statements included in this Form 10-QSB will
prove to be accurate. In light of the significant uncertainties inherent in the
forward -looking statements included herein, the inclusion of such information
should not be regarded as a representation by us or any other person that our
objectives and plans will be achieved. All forward -looking statements made in
this Form 10- QSB are based on information presently available to our
management. We assume no obligation to update any forward -looking statements,
except as required by law.
Item 3. CONTROLS AND PROCEDURES
As of the end of the period covered by this Quarterly Report on Form 10-QSB, an
evaluation was performed under the supervision and with the participation of the
Company's management, including the Chief Executive Officer ("CEO") and Chief
Financial Officer ("CFO"), of the effectiveness of the design and operation of
the Company's disclosure controls and procedures (as defined in Rules 13a -14
and 15d -14 of the Securities Exchange Act of 1934). Based on that evaluation,
the Company's CEO and CFO concluded that the Company's disclosure controls and
procedures were effective in ensuring that material information relating to the
Company with respect to the period covered by this report was made known to
them. During the Company's last fiscal quarter ended June 30, 2004, there was no
change in the Company's internal control over financial reporting identified in
connection with the evaluation that has materially affected, or is reasonably
likely to materially affect, the Company's internal control over financial
reporting.
15
Part II - OTHER INFORMATION
Item 2. Changes in Securities
During the six months ended June 30, 2004, the Company issued a total of 72,225
shares of common stock to certain independent contractors performing services
for the Company. Such shares were issued pursuant to Section 506 of Regulation D
of the Securities and Exchange Act of 1933, as amended. The Company recorded
approximately $11,000 of expense related to the issuance of this stock.
Item 4. Submission of Matters to a Vote of Security Holders
At the Annual Meeting of Stockholders held on June 22, 2004, the following
matters were adopted by the margins indicated:
1. To elect director Michael R. Long to serve until the 2007 Annual Meeting
of Stockholders.
For: 17,239,230
Withheld: 325,167
2. To approve an amendment to the 1999 Comprehensive Employee Stock Plan,
increasing the number of shares of common stock available under the Plan by
5,000,000.
For: 3,432,255
Against: 2,759,154
Abstain: 19,705
3. To approve an amendment to the 1999 Non-Employee Director Plan, increasing
the number of shares of common stock available under the Plan by 700,000.
For: 3,468,354
Against: 2,703,580
Abstain: 39,180
4. To ratify the appointment of Akin, Doherty, Klein & Fuege,
P.C., certified public accountants, as the independent auditors of the
Company for the year ending December 31, 2004.
For: 17,440,182
Against: 82,715
Abstain: 41,500
The following directors continued their term of office subsequent to the Annual
Meeting: Michael R. Long, Louis A. Hoch and Peter G. Kirby.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits:
Exhibit
Number Description
3.1 Articles of Incorporation, as amended (incorporated by
reference to such exhibit in the Registrant's
Quarterly Report on Form 10-Q, filed November 14, 2003)
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3.2 By-laws, as amended (incorporated by reference to such exhibit in the
Registrant's Registration Statement on Form SB-2, filed December 29, 1999)
4.1 Rights Agreement, dated October 4, 2000 (incorporated by reference to such
exhibit in the Registrant's Registration Statement on Form 8-A, filed
October 11, 2000)
10.1 Asset Purchase Agreement between the Company and Saro, Inc. dated May 15,
2003 (incorporated by reference to Appendix A in the Registrant's
Definitive Proxy Statement, filed June 19, 2003)
10.2 First Amendment to Asset Purchase Agreement dated July 25, 2003
(incorporated by reference to such exhibit in the Registrant's Quarterly
Report on Form 10-Q, filed November 14, 2003)
10.3 Standard Office Lease between the Company and Frost National Bank, Trustee
for a Designated Trust, dated August 22, 2003 (incorporated by reference to
such exhibit in the Registrant's Quarterly Report on Form 10-Q, filed
November 14, 2003)
10.4 1999 Employee Comprehensive Stock Plan, as amended (incorporated by
reference to such exhibit in the Registrant's Registration Statement on
Form S-8, filed January 14, 2004)
10.5 1999 Non-Employee Director Plan (incorporated by reference to such exhibit
in the Registrant's Registration Statement on Form S-8, filed February 23,
2000)
10.6 1999 Employee Stock Purchase Plan (incorporated by reference to such
exhibit in the Registrant's Registration Statement on Form S-8, filed
February 23, 2000)
10.7 Form of Employment Agreement dated May 31, 2001, between the Company and
Executive Officers of the Company (incorporated by reference to such
exhibit in the Registrant's Annual Report on Form 10-K, filed April 1,
2002)
10.8 Investment Agreement between the Company and Dutchess Private Equities
Fund, LP dated June 6, 2004 (incorporated by reference to such exhibit in
the Registrant's Registration Statement on Form SB-2, filed June 18, 2004)
10.9 Registration Rights Agreement between the Company and Dutchess Private
Equities Fund, LP dated June 6, 2004 (incorporated by reference to such
exhibit in the Registrant's Registration Statement on Form SB-2, filed June
18, 2004)
10.10 Placement Agent Agreement between the Company, Clayton Dunning and Co,
Inc. and Dutchess Private Equities Fund, LP dated June 4, 2004
(incorporated by reference to such exhibit in the Registrant's Registration
Statement on Form SB-2, filed July 23, 2004)
10.11 Affiliate Office Agreement between the Company and Network 1 Financial,
Inc. dated October 7, 2003 (incorporated by reference to such exhibit in
the Registrant's Registration Statement on Form SB-2, filed April 28, 2004)
31.1 Certification pursuant to Rule 13a -14(a) or Rule 15d-14(a), as adopted
pursuant to Section 302 of the Sarbanes -Oxley Act of 2002 (filed
herewith)
32.1 Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to
Section 906 of the Sarbanes -Oxley Act of 2002 (filed herewith)
17
(b) Reports on Form 8-K:
On June 17, 2004, the Company filed a report on Form 8-K to disclose that Louis
A. Hoch, President and Chief Operating Officer, entered into a trading plan that
provides for sales of the Company's common stock subject to certain sales price
limits.
Items 1, 3, and 5 are not applicable and have been omitted.
18
SIGNATURE
In accordance with the requirements of the Exchange Act, the registrant caused
this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
PAYMENT DATA SYSTEMS , INC.
By: /s/ Michael R. Long
Michael R. Long
Chairman of the Board, Chief Executive Officer and
Chief Financial Officer (principal executive
officer and principal financial and accounting
officer)
Date: August 16, 2004
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